(a). Assume your company is considering a biotech project, which involves a pioneer venture stage to establish its commercial viability. If the technology proves successful, subsequent product commercialisation will be undertaken. The pioneer venture requires an initial investment of $35 million (at t=0) and expected cash inflows are $5 million (at t=1) and $15 million (at t=2). The follow-on product commercialisation stage will become available in year 2. It will require an additional investment of $150 million (at t=2). It will generate $100 million (at t=3) and $100 million (at t=4). The cost of capital for both stages is 20% p.a. The risk free interest rate is 5% p.a. and the volatility of the follow-up commercialisation project is 60%.

(i). Describe the type of real option that you control in this case (max 20 words). (3 marks)

(ii). The payoff of the real option in this case is equivalent to which of the following financial options (2 marks)

A. a one-year European put option

B. a two-year European put option

C. a one-year European call option

D. a two-year European call option